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The Securities and Exchange Commission (SEC) proposed 32 major new rules in just 11 months ending August 2022 and is preparing at least another 19 for release this year, according to SIFMA.
“The speed, breadth, and volume of regulatory change at the SEC will have sweeping and unknown implications,” SIFMA said.
“Rushing to implement dozens of complex and far-reaching new regulations simultaneously absent prioritization, coordination, and robust cost-benefit analysis is not conducive to effective, enduring policymaking.”
For instance, the recently proposed set of equity market structure reforms include:
- a new requirement for certain retail orders to be subject to order-by-order competition, rather than being routed directly to market makers (the Order Competition Rule);
- an SEC-level best execution rule (the Proposed Regulation Best Ex);
- an adjustment to the tick sizes at which NMS stocks can be quoted or traded (the Tick Sizes Proposal); and
- a proposal to expand the scope and manner of execution information that is reported under Regulation NMS Rule 605 (the Rule 605 Proposal).
Apart from the equity market structure modernization, particularly prominent proposals include shortening the cycle to T+1 settlement, changes to investor and position reporting, further disclosures in securities lending and short sales, commented Andy Volz, COO, Clear Street.
“The SEC has a lot on the table that could create considerable change for the U.S. markets, including some of the most potentially significant changes to equity market structure in nearly 20 years,” he said.
Any change to any system poses a risk, that’s just the way that complex systems work, said Jesse Forster, Senior Analyst, Market Structure & Technology at Coalition Greenwich.
Equity market structure is a very complex system, and it’s really important to be mindful of the unintended or potential unintended consequences when making changes to it, he said.
The individual proposals have a lot of support, according to Foster. For example, for several years the industry itself has been calling for modernizing the Rule 605, which hasn’t really been updated since adopted over 20 years ago, he said.
However, there is no way of knowing if individual proposals or rules are beneficial or harmful to the market, stressed Forster.
“There are too many variables at once. We’re not going to know what’s working, and what isn’t working. There are no pilots or otherwise iterative processes here,” he said.
“I’d be concerned if the final rules are adopted as currently written. I think that the overarching process poses a risk,” he added.
According to Forster, there’s a lot of concern from the investment community, who say these concerns are now falling on “deaf ears”.
The public comment period for the Order Competition Rule and Tick Sizes Proposal is open until March 31, 2023, whereas for Proposed Regulation Best Ex and the Rule 605 Proposal – until the later of March 31.
“If I were an institutional investor right now, I would be spending a fair amount of time talking to my constituents, my trading and my compliance officers, and capturing their views and expressing any concerns via the comment letter process,” he said.
Forster said that it’s probably a good idea for the buy and sell-side to get very accustomed to these proposed rules and be very proactive.
The institutions need to prepare themselves for perhaps environments of higher volatility and more fragmented markets, but they’re doing that anyway, added Forster.
Volz pointed out that last year highlighted the need for full front-to-back infrastructure reinvestment, rethinking, and remapping, citing The Bank of England:
“The industry needs to move from legacy paper based, manual processes which are typically functionally siloed, to fully digital processes, integrated across the transactional lifecycle.”
An infrastructure supporting trillions in transactional value and billions of trades per day cannot continue to operate on 1980s technology, Volz argued.
He said that those funds best positioned to prosper and thrive are those that have invested significantly or work with service providers that can provide the real-time, structured data needed to manage risk, capitalize on opportunities, run efficient and compliant businesses, and communicate opportunities and risks with their investors”.
“Demands for additional reporting will put those with legacy technology at an increased risk for penalties. Having access to the right data, in the right form and at the right time will define success,” he said.
Costs to increase
Forster said he expects more investments in compliance and surveillance platforms and thinks that the sell-side potentially will be “forced, or at least nudged a bit to outsource some more of their functions”.
He further said he’s concerned that the regional broker-dealers are going to get hit the hardest. “There will be additional compliance and other surveillance costs and it is going to impact the smaller brokers,” he said.
When speaking about the buy-side, Forster said that they’re investing heavily in trade automation.
“They’re trying to lower their commission rates through lower touch channels,” he said.
Outsourced trading allows them to expand their geographical and asset class footprint and enhance their liquidity seeking capabilities without introducing a single point of failure, he added.
“I think that’s going to be a key investment area for the buy-side,” he said.
According to Volz, the SEC rules and proposals come with data and disclosure requirements that make significant demands on firm resources and require more cross-collaboration.
Investment professionals could find themselves struggling with infrastructure designed years ago for antiquated regulations in a futile effort to pull relevant data and comply with the new rules, he said.
“Traders, portfolio managers, operations, and compliance staff will need to make significant data infrastructure investments in order to generate simple, bespoke reports in real-time and in compliance with SEC regulations,” he concluded.
